I was running through the following problem and for Basic EPS and Diluted EPS I don’t understand where the $50,000 in dividends is coming from. I get that $50 per share for 1,000 convertible preferred shares is $50,000 in convertible preferred dividends, but is that not different from dividends from common shares? Thanks in advance! 1. Diluted EPS Xingia Inc. earns profits of $2,500,000 for the year ended December 31, 2008. Xingia has 1,000,000 weighted average shares outstanding during the year and pays taxes at the rate of 40%. Xingia also has 1,000 convertible preferred shares outstanding, which pay a dividend of $50 per share every year. Each convertible preferred share can be converted into 100 common shares. Calculate Xingia’s basic and diluted EPS for 2008. Solution** Basic EPS**= ($2,500,000 – $50,000)/1,000,000 =**$2.45 Each preferred share can be converted into 100 shares of common stock. Therefore: Number of common shares issued upon conversion = 100 × 1,000 = 100,000 **Diluted EPS = ($2,500,000 – $50,000 + $50,000)/(1,000,000 + 100,000) = $2.27 Since basic EPS equals $2.45 and EPS assuming that convertible preferred shares are converted is lower ($2.27), the convertible preferred shares are dilutive. If EPS after conversion were greater than basic EPS, these shares would be antidilutive and would not be included in the calculation of diluted EPS.
Basic EPS subtracts preferred dividends from net income before dividing by weighted average common shares outstanding (WACSO). The $50,000 in the above question are your preferred dividends. In calculating for diluted EPS, once you convert the preferred into common shares and add them back to WACSO in the denominator, you have to add back the $50,000 in preferred dividends that you’re no longer paying out to the numerator since those preferred shares are now common stock. Basic and diluted EPS are calculated before any dividends that may be paid to common stockholders. Hope this helps!
Dividends for preferred shareholders and dividends for common shareholders are two different things.
Since basic EPS is the income available to common shareholders, their dividends are not subtracted. Preferred dividends are subtracted since that is not income available to common shareholders.
Ahh, I remember studying this topic.
I still have the formula memorized for basic and diluted! Ready for June!
Basic = net income - pref div / waso
diluted = net income - pref div + pref conv income + conv debt income ( 1 - tax ) / waso + pref conv shares + conv debt shares + conv option shares
That is the formula if my memory is still working. Studied that topic about 3 weeks ago.